BOJ To Keep Inflation View Even As It Cuts GDP Estimate: Sources

Thomson ReutersA pedestrian holding an umbrella to take shelter from rain and hail walks past the Bank of Japan headquarters building in Tokyo

By Leika Kihara

TOKYO (Reuters) - The Bank of Japan is likely to keep its bullish inflation outlook even as it cuts its economic growth forecast this fiscal year in an October report, sources said, suggesting the central bank will not ease policy further for at least the rest of the year.

After a hefty 6.8 percent contraction in second-quarter gross domestic product, many private-sector analysts are downgrading their growth forecasts for the year ending in March to around 0.5 percent, just half the 1.0 percent expansion estimated by the BOJ in July.

The central bank is seen cutting its GDP estimate for the current fiscal year when it next updates its economic and consumer price forecasts in a semi-annual review on Oct. 31. But any downgrade will be minor and unlikely to greatly affect its bullish projections for inflation to climb near 2 percent next fiscal year, sources familiar with its thinking say.

"The basic scenario of a moderate economic recovery pushing up inflation remains in place," one of the sources said on condition of anonymity.

The downgrade in its economic estimate would be largely due to the sharp contraction in second-quarter GDP, although many BOJ officials remain optimistic that growth will rebound from the current quarter as the effect of a sales tax hike in April begins to ebb.

In a statement to be issued at a rate review next week, the BOJ is likely to say the economy is recovering moderately with the tax-hike impact "gradually beginning to subside," signalling its relief that consumption is holding up even as households feel the pinch from the higher levy, the sources said.

That will be a slightly rosier view than the current assessment that the economy is recovering moderately, albeit with some speed bumps caused by the tax hike.

BOJ Governor Haruhiko Kuroda said earlier this week that consumption is "back to normal levels now" and that he expected a recovery in GDP in July-September.

Behind the BOJ's optimism lies a steadily improvement in job and household income conditions. Regular pay rose 0.2 percent in the year to June, marking the first increase in more than two years, and summer bonuses were up 2 percent, easing some of the pain from the higher tax.

The BOJ hopes that such increase in wages, driven by a tightening job market, will support household spending and encourage companies to raise prices of goods and services. That, in turn, will allow Japan to meet the BOJ's 2 percent inflation target next fiscal year, central bank officials say.

But many central bank policymakers remain concerned about the outlook for exports, a soft spot in the economy that has failed to pick up despite the boost from a weak yen that gives Japanese goods a competitive advantage overseas.

Exports rose in July for the first time in three months in a tentative sign that overseas demand is starting to recover, but probably not enough to nudge the BOJ into reviewing its assessment that exports are "weakening," the sources said.